Chapter 1

The economics
of emission reductions

At a global level, the benefits of reducing emissions to stabilise temperature increases are well established.The Stern Review was one of the first high-profile studies to conclude that the benefits of strong and early action on climate change outweigh the costs of not acting(Stern 2007). More recent studies have largely reinforced this conclusion, identifying that the economic costs of climate change might be even greater than originally considered when account is taken of the impact that climate change may have on productivity and hence long-run growth(Dietz & Stern 2015), and that the costs of taking climate action may be further justified as a means of providing insurance against the possibility that climate damages may be even worse than currently anticipated.(Weitzman 2012)

A global reduction in emissions will help New Zealand avoid some of the climate impacts it would otherwise face. One of the key barriers to climate action is that its costs are borne locally, while the climate change benefits are felt globally. Nonetheless, New Zealand does stand to gain from global efforts to reduce emissions. The Intergovernmental Panel on Climate Change (IPCC) identifies that some of the key risks faced by New Zealand from climate change, but which could be mitigated by globally effective action, include potential flood damage from more extreme rainfall, and increased economic losses and risks to human life and ecosystem damage from wildfires.

Although there is considerable uncertainty, rises in sea level could also significantly increase risks to coastal
infrastructure and low-lying ecosystems
(Reisinger et al. 2014).

Steep emission reductions are required to meet the Paris Agreement objectives; to the extent that it is feasible to delay further, costs will only increase. These economic considerations are part of the reason why global leaders came together to craft and then ratify the Paris Agreement. To meet the 2°C target of the Agreement with 50–66 per cent probability at least cost, and taking into account the current commitments made by countries in the period to 2030, modelling suggests that carbon dioxide emissions will need to reach net zero by 2060–80s, and that total GHG emissions would have to reach net zero between 2080 and 2001(Rogelj et al. 2016).1 Unsurprisingly, economic analysis shows that delaying action, and hence reducing emissions over a shorter time frame to meet the same climate objective, necessitates much more costly and disruptive change, if indeed this is possible at all.(den Elzen et al. 2010)

To help meet the temperature targets of the Paris Agreement, and/or to reflect the economic damage that emissions otherwise cause, numerous countries have developed emissions pricing policy values. These are the emissions prices that these countries consider as needing to be taken into account in policy and investment appraisal. They are derived in one of two ways. In some cases, they reflect an explicit attempt to quantify the damage that an additional tonne of emissions will cause, with the intention that investments or policies should proceed only when the benefits of an intervention exceed all of its costs, including the costs associated with additional emissions exacerbating climate impacts. On other occasions, they are set with the intention of ensuring that emissions fall on a trajectory that is consistent with either domestic policy targets or the temperature goals of the Paris Agreement. While there is often a high degree of uncertainty over how these values are derived using either approach, Figure 3 shows that they imply a profile for emissions prices that is much higher than those currently seen in the New Zealand ETS.

Policy Values

Relative to these policy values, there are plentiful opportunities for New Zealand to cost-effectively reduce its domestic emissions. Our analysis has sought to synthesise a wide range of evidence on the costs of reducing emissions in New Zealand. Compiling this evidence is challenging as small differences in calculation assumptions or approach can lead to different quantitative results. Rather than present precise point estimates of different abatement opportunities, it is more faithful to the evidence base to present them in broad low-, medium- or high-cost categories:

$ Low-cost options are less than NZ$50/tCO2-e in 2050, and may even be less than zero, if technologies become cheaper than their emissions-intensive alternatives. For example, if electric vehicles become cheaper than internal combustion vehicles, the abatement cost is below zero. Other low-cost options would likely include many forms of energy efficiency and afforestation.

$$ Medium-cost options are in the range of NZ$50–$100/tCO2-e in 2050, and are likely to be cost-effective relative to the emission price policy values in 2050 identified above. They are likely to include electric heating options for industrial production and many uses of bioenergy, as well as the roll-out of electric vehicles to decarbonise freight.

$$$ High-cost options are above NZ$100/tCO2-e in 2050 and hence may be above typical emission price policy values in 2050. They could include the electrification of high-temperature heat for industrial production, electrification of rail, and decarbonisation of industrial process emissions and mitigation of fugitive emissions from, for example, geothermal or fossil fuel productions.

Many sources of emission reductions also deliver important co-benefits.

By reducing emissions, New Zealand might also:

1Dramatically improve the quality of its water resources by reducing livestock production or nitrogen emission intensities, one of the country’s most salient public policy issues;

3Improve health in cities through the transition away from internal combustion engines (ICEs), increased use of active transport, and improved insulation of building fabric leading to more comfortable and health-enhancing housing stock;

4Enhance the country’s energy security and susceptibility to fluctuations in international fossil fuel prices.

Indeed, from one perspective, it may be more valuable to consider many emission reduction opportunities as having desirable outcomes for public policy to seek, and that also happen to have the co-benefit of reducing emissions.

A shift towards a lower-emissions economy could also yield important dynamic benefits. In the same way that firms, industries and countries that are more productive in their use of labour, capital and raw materials are better able to compete in international markets, so, increasingly, it will be important to be able to make use of scarce rights to emit GHGs productively. New Zealand’s low-carbon electricity generation means that it already has a clear opportunity to thrive in such a context.

Furthermore, building on what is already an efficient and, by international standards, technologically advanced pastoral agricultural sector, there could be opportunities to develop comparative advantage in the technologies and production processes that can allow pastoral agriculture to cope with increasingly binding emissions constraints.

Nonetheless, there will also be legitimate barriers and concerns associated with pursuing these emission reductions that will need to be actively managed. The transition to a low-emissions future will raise a number of wider socioeconomic concerns. Patterns of economic activity are likely to change, and with them the location of employment opportunities, and the skills needed to fulfil these opportunities. Energy prices will likely rise, at least in the short term, raising concerns around energy poverty and industrial competitiveness. New Zealand’s flexible, adaptable economy and strong institutions already place it in a strong position to manage such a transition. However, additional, specific measures may be needed, such as compensation for those on low incomes or working in vulnerable industries, or skills training and vocational programmes to prepare for new areas of employment.

Given these concerns, the flexibility to be able to purchase emission reductions from overseas will remain important for New Zealand as it transitions towards a low-emissions future. New Zealand can contribute to the goals of the Paris Agreement either by reducing its emissions domestically or by purchasing emission reductions from overseas through the anticipated emergence of a revitalised international emissions market. Traditionally, New Zealand has seen the flexibility provided by this option as important given the perceived challenges and uncertainties it faces in reducing some of the sources of its domestic emissions, especially from the agriculture sector, as well as some of the broader socioeconomic challenges. The use of international emissions markets may also support low-emissions development in low- and middle-income countries. While the focus of this study is only on opportunities for domestic emission reductions, and has therefore not considered New Zealand’s overall contribution to global mitigation or the optimal split between domestic reductions versus overseas purchases in that context, flexible access to these markets will clearly remain a crucial element of New Zealand’s emission reduction strategy.

However, an over-reliance on international purchases also carries risks. New Zealand’s recent experiences in purchasing international units from, for example, Ukraine, illustrate the reputational risks it might face in using international purchases, and how such purchases might threaten the genuine execution of New Zealand’s contribution to global efforts to reduce climate risks. At the other end of the spectrum, even though policymakers in other countries make use of estimates of future emission prices to guide decision-making, there remains a significant degree of uncertainty regarding the future trajectory of international emissions prices. Ambitious implementation of the Paris Agreement by other countries could make them reluctant to sell emission reductions to New Zealand, preferring to keep them for use against their domestic targets, and forcing New Zealand into paying much higher prices than suggested in current forecasts.

In short, there is a strong economic rationale for New Zealand to consider carefully how it might substantially reduce its emissions, and what the consequence of this might be for its economy.

Next Chapter

Sign up to our newsletter

Thanks, you are subscribed.

Footnotes

Moreover, these analyses assume benign technological developments in the second half of the century that will allow so-called ‘negative emission technologies’ to turn the world’s emission profile negative. If these technologies do not develop then even greater emission reductions will be required.

About the author

Vivid Economics

This report has been compiled by Vivid Economics under contract with GLOBE-NZ, a cross-party group of 35 members, drawn from all parties within the 51st New Zealand Parliament. The report’s authors were Alex Kazaglis, John Ward, Stuart Evans, Paul Sammon and Luke Kemp. The project, funded for GLOBE-NZ by a group of donors within New Zealand, were British High Commission, Mercury Energy, Mills Foundation, Morgan Foundation, Sam Morgan, Rob Morrison, NZ European Union Centres Network, Tindall Foundation, US Embassy, Vector NZ Ltd, Victoria Ransom, Warehouse Group and Z Energy. The authors would like to express their deep gratitude to the very many stakeholders who contributed so generously with their time and expertise. Appreciation is also expressed to Pure Advantage, for its active involvement in the guidance of the project through its membership of the Joint Project Committee.